1. Field of the Invention
The present invention generally relates to determining the optimal pricing and advertising expenditure for a seller's goods and services, and more particularly to a system and method for determining the optimal prices and optimal advertising bids for a seller's goods and services based on an interdependence between price elasticity of demand and advertising through an advertising bidding system.
2. Description of the Related Art
Over the course of the past decade, the expansion of the Internet has been accompanied by the rise of electronic commerce (e-commerce). As the number of e-commerce websites on the Internet has increased and the popularity of this commercial medium has grown more commonplace, the need for sellers to be able to quickly, accurately, and efficiently acquire and process information about the markets they serve has increased considerably. As used herein, a seller may refer to a retailer, distributor, manufacturer, or any individual, group, or entity selling a product. Moreover, a product may refer to any good or service.
Determining an optimal price for a product is one of the most important tasks for a seller, because pricing is central to consumer interest and marketing efforts. When pricing products, a seller must take into account all of the fixed and variable costs that it incurs while selling the product. These fixed or variable costs may include, but are not limited to, the wholesale price of the product or the cost of production, freight charges, and other related direct or indirect business operating costs and overhead. To ensure that the seller garners a profit, the seller must price the product at some value higher than the total cost of selling the product. The seller loses money if the product is not priced to cover the total cost of selling the product.
The total cost of selling the product, however, is usually not the only factor in determining the price of a product. A very important factor is the effect that a change in price has on the demand for the product. This effect is known as price elasticity. A seller must usually consider the number of units of the product that the entire market of buyers is willing to buy at a particular price. This number of units is known as the quantity demanded. In most cases, the quantity demanded for a product is inversely related to the price of the product. Thus, as the price of a product decreases, the quantity demanded usually increases. Conversely, as the price of a product increases, the quantity demanded usually decreases.
In some cases, demand for a product may change significantly with the slightest change in price. In other cases, the demand may experience insignificant change with a change in price. This sensitivity of the quantity demanded for a product in response to a change in its price is known as the price elasticity of demand.
A price for a product may be elastic, unit elastic, or inelastic. If the product price is elastic, the quantity demanded is very sensitive to changes in price. In this case, the seller must be cautious when adjusting the price, as the quantity demanded can fluctuate drastically with even a slight change in price.
If the product's price is unit elastic, the quantity demanded changes proportionality with a change in price. In this case, as the price changes the quantity demanded changes but in close relation to the price change.
However, in some cases, the price of a product may be inelastic. In other words, the quantity demanded is not sensitive to changes in price, and, generally speaking, consumers demand the same amount of the product at any price. In this case, as the price changes the quantity demanded is unlikely to change in a significant way.
Accordingly, in order to maximize the total sales for a particular product, a seller must take into account the price elasticity of the product, and therefore price the product according to the relationship between price and demand. While this allows a seller to maximize the total monetary value of sales, it may not allow for the maximization of profit.
In order to develop any significant demand for its product, a seller must generally advertise its products and make the public aware of its goods. However, the cost of advertising must be deducted from the gross sales, along with other direct product costs, in order to determine profit. As such, a seller must consider the cost of advertising when determining the optimal price at which to sell a product in order to maximize profits. Thus, when a seller spends more money on advertising, it increases the demand, and therefore revenue, for a product, but the seller's costs also increase as advertisement expenditures increase.
Various advertising venues are available for sellers to promote consumer knowledge about their goods and services. An advertising venue is any medium by which information about goods or services can be communicated. Traditional advertising venues include print media, radio, television, telephone marketing, and public displays. However, the growth of the Internet as a medium for disseminating information has given sellers new types of advertising venues. Such advertising venues may direct the Internet users to a seller's own Internet website.
Advertising venues on the Internet price advertisements in various ways. The two most common pricing methods are to charge on either a Cost Per Impression (CPI) basis or a Cost Per Click (CPC) basis.
Common forms of CPI advertisements are banner ads, link exchanges, and pop-up advertisements. A banner advertisement is a graphic image, that appears on an Internet website, most frequently at the top of the page, designed to persuade users to click on the advertisement, which then directs them via a hyperlink to the advertiser's website. A link exchange employs an advertising practice in which a first website features a graphical or text hyperlink to a second website, in exchange for money and/or an agreement by the second, or other, website to feature a graphical or text hyperlink to the first website. A pop-up advertisement is a window that displays an advertisement within, or over, a website. People are exposed to these types of advertisements without any special action, because they automatically either appear in the body of a webpage, as is the case with banner advertisements and link exchanges, or on their computer screens, as is the case with pop-up advertisements. CPI advertisements are billed to the advertiser on a fixed value based on the number of people exposed to the advertisement, a system similar to the rate methods used in print media. Some CPI advertisements also have varying pricing schemes based upon the size and prominence of the advertisement, e.g. where larger or more prominent advertisements cost more than smaller or less visible advertisements. Although there may be a hyperlink to a seller's own website in the CPI advertisement, the advertising cost does not depend on whether the user actually clicks on the hyperlink.
Most CPC advertisements are based upon keyword searches in search engines. A keyword is a word, or series of words that, when entered into a search engine by a user, triggers corresponding advertisements to appear. A seller typically uses a word or words that relate to the products for sale in order to attract potential customers. A search engine searches a database of web pages for the keyword(s) and typically presents a list of web pages associated with the keyword(s). The web pages on the list are ranked, or ordered, according to relevancy, which may vary according to different search engines. In addition to displaying these search results on these pages, often advertisements are shown alongside the standard search results. These advertisements are often identified as such by appearing on a certain area of the page, or having a textual or graphical indicator. However this may not always be the case, and the advertisements may be intermingled with the standard search results, with no indicator that they are in fact advertisements. As described below, the ranking of the advertisements, in some cases, can also depend on the amount the advertiser pays for its advertisement to appear in the results. For example, a user may enter the keywords “TV stand” through an online search engine, whereby the search engine generates a results page that showcases advertisements that are associated with the keywords “TV stand.” In order for a seller to have its advertisement appear on the search results page associated with a keyword or keywords, it must pay the search engine a predetermined fee, every time a user clicks on its advertisement.
There are two primary types of CPC systems, straight-auction bidding systems and blind-bid systems.
In straight-auction bidding systems employed by companies like Overture™, also known as Yahoo Search Solutions™, a seller wishing to advertise chooses the keyword(s) on which it wishes to bid, and then determines the maximum amount of money it is willing to pay each time someone who searches the keyword(s) clicks on its advertisement. An advertiser is able to see every bid in the system placed by other advertisers and can bid accordingly. These systems typically charge the advertiser an amount equal to one cent above the next highest bidder's bid for each time the advertiser's advertisement is clicked. Thus, the actual cost for each click on the advertisement may be less than the bid.
In addition to straight-auction style online advertisement bidding systems, there are also more complex systems such as the blind-bid style auctions employed by Google AdWords™. In the blind-bid style system used by Google™, a web seller wishing to advertise chooses a keyword that relates to the product it is trying to sell, and informs Google™ of the maximum amount of money it is willing to pay each time someone clicks on the direct link to its website. In such blind-bid CPC systems, an advertiser is not able to see how much other advertisers are paying to have their websites featured. Moreover, some CPC systems do not rank advertisers solely on their maximum advertisement bid. For instance, Google™ ranks search results based on a number of factors, such as click-through-rate and the seller's maximum advertisement bid. The click-through-rate is a percentage calculated by dividing the number of times an advertisement is clicked on by the number of times the advertisement is shown to users. The rank assigned to an advertisement at a search engine is significant because most online advertising systems are designed so that the advertiser who is willing to bid the highest has its advertisement shown the most frequently and/or the most prominently. While this increases that advertiser's cost, it is often the case that the advertisement that is featured the most frequently and prominently obtains the most prospective buyers, and most likely also the most orders.
A seller is not limited to advertising at one advertising venue, or one type of venue. In fact, it is generally beneficial for the seller to advertise through different types of advertising venues simultaneously. In order to manage a successful advertising strategy, the seller must collect data that allows it to assess the effectiveness of its advertisements in each advertising venue. For instance, a seller who posts an advertisement through an Internet advertising venue that has a hyperlink to the seller's website is interested in the click-through-rate and conversion rate for the advertisement. Conversion rate indicates the percentage of consumers who actually make a purchase after accessing the seller's website through the hyperlink. Click-through-rates and conversion rates are highly important as they provide a gauge by which the seller can determine how effective an advertisement is at generating web traffic and at generating product sales.
As described previously, a seller must be able to determine what combination of product price and advertising expense generates the most profit dollars. Product pricing must be higher than the total cost to sell, which includes the applicable advertising costs. While advertising expenditures increase total costs, they also create demand. Separately, demand is also tied to product pricing. Thus, finding the optimal profit point is very difficult since the interaction between product pricing and advertising expense can be non-linear and often unpredictable.
Optimizing product pricing and advertising expenditures is made complex when using an advertising strategy that employs a variety of advertising venues. Conventional systems do not track and organize advertising data for sellers who have complex advertising strategies that use different advertising venues at the same time.
Moreover, optimization is made even more complex when these advertising venues have a non-linear effect on the demand they generate. Conventional systems only create models that assume a linear relationship between advertising costs and resulting sales, as seen with print media which generally charge standard or fixed fees based on the level of circulation. A linear advertising model expresses advertising expenditures and resulting margin in terms of a proportional relationship. In other words, a change in advertising creates a proportional change in the amount of demand generated. For example, if a seller spends $10 to advertise a product and it results in $100 in profit, a linear advertising model predicts that if the seller doubles advertising expenditures to $20, profit also doubles to $200. Conversely, if the seller cuts advertising expenditures in half, margin is also expected to decrease by the same percentage.
Linear-based demand advertising models are generally sufficient for traditional advertising venues. However, they are not sufficient for analyzing data in the complex area of Internet advertising. In particular, the bidding systems used in Internet advertising create a non-linear relationship between advertising expenditure and the demand and profit that result. These bidding systems are also dynamic, and have constantly changing advertising rates associated with them. As a result linear models are insufficient for optimizing price and advertising expenditures when a seller advertises through one or more Internet advertising venues that use bidding systems to set the advertising rates.